Sergey Khestanov – Russian economist, associate professor of ‘The Russian Presidential Academy of National Economy and Public Administration‘, macroeconomic adviser to the general director of the Moscow investment company ‘Otkrytie Broker’.
The world economy is cyclic, and the temporal scales of such cycles differ from long-term Kondratiev waves (45-60 years) to rather short-term Kitchin cycles (about 40 months). In practice, the most interesting are the so-called Kondratiev waves (7-12 years). The post-Soviet residents recall well at least three such cycles in 1986, 1997 and 2008.
The same crisis in different countries and regions (the European Union, a typical example of supranational organization) proceeds differently. This applies to both the start and end time of the crisis, and the depth of the downturn. This is due to differences in the actions of the authorities: monetary, fiscal and budgetary policies can both noticeably (perhaps even for more than a year or two) delay the crisis or accelerate its onset.
The 2015 crisis falls out of this series, but this, apparently, is explained by the influence of geopolitics. In addition, in most major world economies there was no crisis at this time. There was quite decent growth in the USA, weak growth in the EU (mainly due to Germany), good growth in India and China and a decent decline in Russia, Ukraine and Belarus. Until 2015 the major downturns of these economies clearly correlated with the dynamics of the global economy, mainly through commodity prices. The crisis of 2015 was the first since 1970s (when the raw materials dependence on commodity prices of the Soviet economy began to manifest itself clearly), which was not caused by the global economic crisis. This is surprising and is worth of a separate, very detailed consideration, since it indicates the breaking of almost half a century of regularity. Usually, very serious reasons are required to break a long-existing pattern…
All previous crises in the post-Soviet space were associated with a fall in commodity prices. For Russia, oil prices are of greatest importance, steel prices are significant for Ukraine (and prices for agricultural products, to a lesser extent). However, the correlation between commodity prices is quite high, and a strong drop in the price of one type of raw material, as a rule, leads to a drop in prices for other raw materials. If economy of even a part of large countries – consumers of raw materials slows down, this somehow affects all countries directly or indirectly associated with the supply of such materials.
The practical application of cycle theory is hampered by the fact that in real life cycles of different time scales overlap with each other and this greatly complicates their identification. In addition, the budget, fiscal and monetary policies of the authorities have a great influence on the phase of the economic cycle.
Moreover, the authorities of different countries often pursue different policies. During the financial crisis of 2008, the US monetary authorities (the Federal Reserve System) very quickly switched to the “cheap money” policy, and the ECB (European Central Bank) came to it much later.
Sometimes, even monetary authorities deliberately try to influence the economic cycle. Most often they try to prevent (or at least mitigate) the onset of the crisis, but occasionally – and vice versa, the actions of representatives of the monetary authorities provoke the onset of a recession. The most striking example of this is the anti-inflationary policy of Paul Volcker, the chairman of the Federal Reserve, (1979-1987) which led to a recession and rising unemployment in America, which did not allow Jimmy Carter to be re-elected for a second term and Ronald Reagan became the new president in 1981.
All this makes us be very careful when making any forecasts regarding the onset of another crisis. Nevertheless, if 7-12 years passed after the last crisis of 2008, then now the likelihood of another recession or a full-blown crisis has greatly increased.
The low dynamics of all the major economies in the world (the USA, the EU and China) reveals the fact that another recession in the global economy is just around the corner. The lower the rate of economic growth, the more the weaker negative factors can trigger a recession.
US GDP drop 2018-2020
EU GDP drop 2018-2020
China GDP drop 2018-2020
At the end of 2019 – the beginning of 2020, another important factor that influences the economic cycle is powerfully manifested: the election campaign in the United States began. The current US president, D. Trump, is actively demonstrating a desire to be re-elected. To do this, it is important for him to prevent a noticeable decline, and, especially – the growth of unemployment.
If the unemployment rate remains low at the time of the election in the US, then the incumbent president will have a very high chance of being re-elected. And on the contrary, if the economy slows down noticeably at the finish line of the pre-election race (it is not the formal definition of a recession that is important, but the remarkable slowdown of the economy) and unemployment increases, this will surely push the undecided voters away from the incumbent president. In conditions of strong polarization and an approximately equal number of supporters and opponents, this practically guarantees the defeat of D. Trump in the elections.
Based on Trump’s actions and public statements, he well understands the key conditions for re-election: low unemployment and continued economic growth. It is quite hard to directly affect the economy, but indirectly it is not very difficult. The main lever that allows to relatively reliably accelerate the economy is easing monetary policy.
The US Federal Reserve managed to raise the discount rate to a level close to inflation in the United States, without causing a recession or rising unemployment. Purely technically, this is just an example of a competent policy of managing a discount. Thus, the Federal Reserve has created a reserve for the discount rate, which will reduce it when it is necessary to accelerate the economy. The presence of such a tool is a good reserve in case of a future crisis.
Purely technically, the discount can be lowered below zero. Some countries in Europe have done this for a long time. But negative rates do not work in practice. Neither citizens nor companies are idiots. Accordingly, they won’t be eager to invest funds at negative rates. All the more valuable is the fact that the US Federal Reserve managed to create a “reserve of a positive rate” in order to have room for maneuver in case of crisis.
President Trump has repeatedly criticized the Federal Reserve for the high discount rate (in his opinion), and even made several steps to reduce it. The fact of pressure from the US president on the Federal Reserve is a very unusual phenomenon. Never before has the president of the United States exerted such overt and severe pressure on the Federal Reserve. And the very fact of such pressure suggests that D. Trump understands well that the economic cycle is nearing completion, and it is critically important, even by means of pressure on the Federal Reserve, to ease monetary policy and shift the economic downturn for the presidential election.
These actions of President Trump allow us to fairly reliably assume when to expect the next economic crisis, namely, after the completion of the US presidential election process. When exactly this will happen is largely determined by purely random events. But a completely deliberate easing of monetary policy in the United States will certainly allow this event to be delayed so that it does not interfere with the process of Trump’s re-election.
For most private investors, this means that until November 2020, most likely, no negative surprises should be expected from the US Federal Reserve. Most likely, the current trend towards easing monetary policy will continue, at least until the election of the US President. This means quite a large growth potential for a wide variety of asset classes: from US blue chips to many emerging markets. As long as pressure on the Federal Reserve in the direction of easing monetary policy continues, the growth potential for the US stock market will be retained, and, adjusted for country risks, the growth potential for most other markets will retain.
But following the US presidential election (November 2020), on the contrary, the likelihood of a recession in the American, and after this, world economy will increase significantly. However, this will be a completely different story …
In addition to the basic scenario (and most often the basic scenario works in real life) it is interesting to consider unlikely in practice, but in principle possible stressful scenarios:
1) The influence of a sharply negative external factor, which leads to severe inhibition of a large economy (USA, China, EU). What matters is not the nature of this negative factor, but the intensity of the decline in GDP growth. As a possible option, such a factor could be the inhibition of the Chinese economy due to quarantine measures taken to combat the coronovirus infection COVID-19.
2) The slowdown of the American economy and the growth of unemployment due to the increase in the Federal Reserve discount rate even before the election of the US President. This can greatly change the balance of power in the upcoming elections, and, most likely, will lead to the victory of the Democratic party candidates, whoever is elected, the chances of tightening anti-Russian sanctions will increase dramatically.
However, the probability of these scenarios is not too great – so far it does not exceed 20%.